What next for the Swiss economy?

3 aprile 2019

Markus Thöny

Head of Swiss Fixed Income

Philipp Burckhardt

Credit Analyst and Portfolio Manager

In the new year, the Swiss economy has been buffeted by global developments, while maintaining its own, distinct features. As such, the Swiss economy has echoed part of the deterioration seen in the Eurozone, but also showed signs of domestic resilience in the labour market. We expect the Swiss economy to continue mirroring weak growth, but with important domestic caveats. We are also monitoring the franc exchange rate.

Globally, central banks have adopted a more dovish stance since January. The US Federal Reserve said it will be patient and flexible regarding the path of its policy rates. On the balance sheet normalisation, the Fed will slow its tapering of Treasury securities from May, and plans to end the Treasury taper in October 2019. In the Eurozone, the European Central Bank (ECB) reduced its economic forecasts for the region, pushed forward its expected timing for rate hikes to 2020, and unveiled a fresh round of low-cost funding for banks. This means the low yield environment looks set to endure.

Meanwhile, continued uncertainty persists. While global growth is moving sideways, sentiment is nonetheless weakening and geopolitical risks are increasingly entrenched. Concerns surround the trade war between the US and China, the rise of populism generally, doubts about Italy’s economic policies, the “gilets jaunes” protests in France, and the challenges of Brexit negotiations. While we still see international growth slightly below trend, the outcome is by no means guaranteed and the timing may be uneven and volatile due to such factors – this renders the outlook challenging.

Within this context, the Swiss National Bank (SNB) has maintained an accommodative monetary policy. It keeps interest rates deeply negative, and communicates its readiness to intervene in the market to prevent the franc from appreciating. Typically, the strong franc dampens imported inflation, especially through the trade channel with the Eurozone. As such, the SNB closely tracks Eurozone developments, and has intervened in the past to ensure that any softening of the euro is not accompanied by firming of the franc.

Domestically, there are signs of a sharp softening in some Swiss indicators such as GDP, manufacturing and the KOF leading indicator. This dip mirrors that seen in the Eurozone, to some extent. Certain other Swiss indicators, however, show a relatively robust domestic picture. For instance, the Swiss output gap has closed, and the Swiss economy is approaching full employment.

We expect economic developments in the Eurozone to guide Swiss monetary policy, especially because the strong Swiss franc dulls imported inflation. Should the ECB become even more dovish due to a slump in Eurozone growth, for example, we believe the SNB could echo with moves of its own. Still, because certain Swiss indicators show a relatively buoyant domestic picture, we caution that this domestic resilience could act as a multiplier in a potential recovery scenario.

Our base case scenario is for the SNB to remain on hold for the time being and warn about the strong franc, especially because of the Eurozone slowdown. We are closely watching the currency as a driver for policy and expect the SNB would tolerate a limited appreciation of the Swiss franc. Further large-scale currency intervention is rather unlikely, however, as decreasing marginal benefit could shift the cost-benefit analysis of these measures, we believe. Additionally, the risk of being labelled a currency manipulator by the US Treasury at some point acts as further backstop.

Overall, we see a continuation of the dovish status quo of current negative rates in Switzerland, coupled with a readiness to intervene in currency markets.

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